Chapter 22 Performance Evaluation Using Variances from Standard Costs Accounting, 21 st Edition Warren Reeve Fess PowerPoint Presentation by Douglas Cloud Professor Emeritus of Accounting Pepperdine University © Copyright 2004 South-Western, a division of Thomson Learning. All rights reserved. Task Force Image Gallery clip art included in this electronic presentation is used with the permission of NVTech Inc.

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1.Describe the types of standards and how they are established for businesses. 2.Explain and illustrate how standards are used in budgeting. 3.Calculate and interpret direct materials price and quantity variances. 4.Calculate and interpret direct labor rate and time variances. ObjectivesObjectives After studying this chapter, you should be able to:

6.Journalize the entries for recording standards in the accounts and prepare an income statement that includes variances from standards. 7.Explain how standards may be used for nonmanufacturing expenses. 8.Explain and provide examples of nonfinancial performance measures. ObjectivesObjectives 5.Calculate and interpret factory overhead controllable and volume variances.

Standards—Performance Benchmarks Requires joint efforts of accountants, engineers, and other management personnel Setting Standards Reviewing and Revising Standards Should be revised when they no longer reflect operating conditions they intended to measure Types of Standards Theoretical or ideal (world record) standards Currently attainable standards (normal standards)

Western Rider Inc., a manufacturer of blue jeans, uses standard manufacturing costs in its budgets.

Western Rider Inc. Standard Cost per Pair of XL Jeans Direct materials: $5.00 per square yardx1.5 square yards =$ 7.50 Direct labor: $9.00 per hour x 0.80 hour per pair=7.20 Factory overhead: $6.00 per hour x 0.80 hour per pair= 4.80 Total standard cost per pair$19.50

Western Rider Inc. Budget Performance Report For the Month Ended June 30, 2006 Direct materials$ 40,150$37,500$2,650 Standard CostCost at ActualVariance ActualVolume(favorable) Manufacturing CostsCosts(5,000 units)Unfavorable Direct labor38,50036,0002,500 Factory overhead 22,400 24,000 (1,600) Total mfg. costs$101,050$97,500$3,550 5,000 x $7.50 per pair

TotalManufacturing Cost Variance TotalManufacturing Direct Materials Price Variance Direct Labor Rate Variance Direct Labor Time Variance Variable Factory Overhead Controllable Variance Fixed Factory Overhead Volume Variance DirectMaterials Cost Variance DirectMaterials DirectLabor DirectLabor FactoryOverhead FactoryOverhead

Direct Materials Price Variance Actual price per unit$5.50per sq. yd. Standard price per unit 5.00 per sq. yd. Price variance (unfavorable)$0.50per sq. yd. $0.50 times the actual quantity of 7,300 sq. yds. = $3,650 unfavorable

Direct Materials Quantity Variance Actual quantity used7,300 sq. yds. Standard quantity at actual production7,500 Quantity variance (favorable) (200) sq. yds. (200) square yards times the standard price of $5.00 = ($1,000) favorable

Direct Materials Variance Relationships Actual quantity x Standard price 7,300 x $5.00 = $36,500 Actual quantity x Actual price 7,300 x $5.50 = $40,150 $3,650 U Material Price Variance Standard quantity x Standard price 7,500 x $5.00 = $37,500 ($1,000) F Material Quantity Variance

Direct Materials Variance Relationships $2,650 U Total Direct Materials Cost Variance Actual quantity x Standard price 7,300 x $5.00 = $36,500 Actual quantity x Actual price 7,300 x $5.50 = $40,150 Standard quantity x Standard price 7,500 x $5.00 = $37,500

Direct Labor Variances Standard direct labor hours per of XL jeans0.80direct labor hour Actual units producedx 5,000pairs of jeans Standard direct labor hours budgeted for actual production4,000direct labor hours Standard rate per DLHx $9.00 Standard direct labor cost at actual production$36,000

Direct Labor Variances Actual direct labor hours used in production3,850direct labor hours Actual rate per direct labor hourx $10.00 Total actual direct labor cost$ 38,500

Direct Labor Rate Variance Actual rate$10.00 Standard rate 9.00 Rate variance (unfavorable)$1.00per DLH $1.00 times the actual time of 3,850 hours = $3,850 unfavorable

Direct Labor Time Variance Actual hours3,850DLH Standard hours at actual production 4,000 Time variance(150)DLH (150) Direct labor hours times the standard rate of $9.00 = ($1,350) favorable

Direct Labor Variance Relationships Actual hours x Standard rate 3,850 x $9.00 = $34,650 Actual hours x Actual rate 3,850 x $10 = $38,500 $3,850 U Direct Labor Rate Variance Standard hours x Standard rate 4,000 x $9.00 = $36,000 ($1,350) F Direct Labor Time Variance

Direct Labor Variance Relationships Actual hours x Standard rate 3,850 x $9.00 = $34,650 Actual hours x Actual rate 3,850 x $10 = $38,500 Standard hours x Standard rate 4,000 x $9.00 = $36,000 $2,500 U Total Direct Labor Cost Variance

Overhead is applied at $6.00 per direct labor hour based on estimated 5,000 total hours.

Variances from standard for factory overhead result from: 1.Actual variable factory overhead cost greater or less than budgeted variable factory overhead for actual production. 2.Actual production at a level above or below 100% of normal capacity.

Western Rider Inc. produced 5,000 pairs of XL jeans in June. Each pair requires 0.80 standard labor hours for production. The firm operated at 80% of capacity. Direct Labor Hours 4,000 5,000 5,500 Total variable costs$14,400 $18,000$19,800 Percentage of capacity80%100%110% Actual variable overhead10,400 Variable overhead variance—favorable$(4,000)F Controllable variance based on variable costs Level of activity

Direct Labor Hours 4,000 5,000 5,500 Percentage of capacity80%100%110% Total fixed costs12,00012,00012,000 Fixed cost per DLH$3.00$2.40$2.18 Desired capacity Standard hours at actual production Western Rider Inc. produced 5,000 pairs of XL jeans in June. Each pair requires 0.80 standard labor hours for production. The firm operated at 80% of capacity.

Direct Labor Hours 4,000 5,000 5,500 Percentage of capacity80%100%110% Total fixed costs12,00012,00012,000 Fixed cost per DLH$3.00$2.40$ % of normal capacity5,000DLH Standard hours at actual production 4,000DLH Capacity not used1,000DLH Standard fixed overhead rate at 100%x $2.40 Fixed overhead volume variance$ 2,400U Western Rider Inc. produced 5,000 pairs of XL jeans in June. Each pair requires 0.80 standard labor hours for production. The firm operated at 80% of capacity.

Western Rider Inc. Factory Overhead Cost Variance Report For the Month Ended June 30, 2006 Productive capacity for the month (100% of normal)5,000 hours Actual production for the month4,000 hours Budget (at Actual Variances Production) Actual Favorable Unfavorable Variable factory overhead costs$14,400$10,400$4,000 Fixed factory overhead costs 12,000 12,000 Total factory overhead costs$26,400$22,400 Total controllable variances$4,000$ 0 Net controllable variances— favorable$4,000 Volume variance—unfavorable: Capacity not used at the standard rate for fixed factory overhead—1,000 x $2.40 2,400 Total factory overhead cost variance--favorable$1,600

Fixed Overhead Variances and the Factory Overhead Account Factory Overhead Actual factory overhead$22,400 $10,400 + $12,000 Applied factory overhead$24,000 4,000 hours x $6.00 per hour Balance, June 301,600

Fixed Overhead Variances and the Factory Overhead Account Factory Overhead Actual factory overhead$22,400 Applied factory overhead$24,000 Balance, June 301,600 Controllable Variance:$4,000F $22,400 – $26,400

Fixed Overhead Variances and the Factory Overhead Account Factory Overhead Actual factory overhead$22,400 Applied factory overhead$24,000 Balance, June 301,600 Volume Variance:$2,400U $26,400 – $24,000

Fixed Overhead Variances and the Factory Overhead Account Total Factory Overhead Variance Controllable variance$4,000F Volume variance 2,400U Total$1,600F

Fixed Overhead Variances and the Factory Overhead Account Controllable variance$14,400 Fixed factory overhead 12,000 Total$26,400 Budgeted Factory Overhead for Amount Produced

Recording and Reporting Variances from Standards

Aug. 1 Materials (7,300 sq. yds. X $5.00) Direct Materials Price Variance Accounts Payable On August 1, Western Rider Inc. purchased, on account, the 7,300 square yards of blue denim at $5.50 per square yard. Recall, the standard price was $5.00. $5.507,300 =$40,150 $5.007,300 =$36,500 $3,650 U Direct materials price variancex

Aug. 31 Work in Process (7,500 x $5.00) Direct Materials Quantity Variance Materials (7,300 x $5.00) Western Rider Inc. used 7,300 square yards of blue denim to produce 5,000 pairs of XL jeans, compared to the standard of 7,500 square yards. Date the entry August 31. Standard price x Actual quantity Standard price x Standard quantity $5.007,300 =$36,500 $5.007,500 =$37,500 $1,000 F Direct Materials quantity variance

Aug. 31 Work in Process Direct Labor Rate Variance Direct Labor Time Variance Wages Payable For the month of August, Western Rider Inc. accrued wages of $38,500 (3,850 hours at $10 per hour) in producing 5,000 XL Jeans. The standard rate is $9 per hour and each pair of jeans had a time standard of 0.8 hr. Actual ratex Actual hours Standard rate x Actual hours Standard rate x Standard quantity =$38,500 =$34,650 =$36,000 $10.003,850 $9.003,850 $3,850 U (rate) $9.004,000 $1,350 F (time) This entry is not shown in the textbook.

Western Rider Inc. Income Statement For the Month Ended June 30, 2006 Sales……………………………………$140,000 Cost of goods sold…………………….. 97,500 Gross profit--at standard……………….$ 42,500 Less variances from standard cost: Direct materials price………………..$3,650 Direct materials quantity…………….$1,000 Direct labor rate……………………..3,850 Direct labor time…………………….1,350 Factory overhead controllable……….4,000 Factory overhead volume…………… 2,400 3,550 Gross profit…………………………….$38,950 Operating expenses……………………. 25,725 Income before income tax……………..$13,225 Favorable Unfavorable

Nonfinancial Performance Measures  Inventory turnover  On-time delivery  Elapsed time between a customer order and product delivery  Customer preference rankings compared to competitors  Response time to a service call  Time to develop new products  Employee satisfaction  Number of customer complaints

Nonfinancial Performance Measures (Fast Food Restaurant) Inputs Employee training Employee experience Number of new menu items Number of employees Fryer reliability Fountain supply availability Inputs Employee training Employee experience Number of new menu items Number of employees Fryer reliability Fountain supply availability Outputs Line wait Percent order accuracy Friendly service score Outputs Line wait Percent order accuracy Friendly service score Activity Counter service

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